Time to cut the corporate tax rate
ALPER C. DEMİR*The last time Turkey lowered its corporate tax rate was 2006. Despite the fears of losing a big chunk of tax income, the cut of the rate to 20 percent did not result in a significant and constant tax revenue loss. A slight decrease was observed in the first year, but then corporate tax revenues continued to increase in parallel to the growth of the Turkish economy in the subsequent years. And, according to many scholars, it may have even helped to lure more foreign direct investment (FDI), which hit a peak between 2006 and 2008. In those three years, Turkey enjoyed an all-time high foreign investment; more than $20 billion in annual FDI.
However, the bright sheen of the Turkish economy started to fade around 2013; the average FDI in the last three years has been less than $15 billion, and today, because of so many internal and external factors, we are now facing a devaluation of the Turkish Lira, rising unemployment and even negative growth rates. The government recently announced so many incentive packages for investors in order to reverse this course.
Some of them include corporate tax credits, i.e., subsidies or exemptions. Nevertheless, almost all of them are conditional, coming with many strings attached, which limit their encouraging effect on investors.
For instance, the scope of “Reduced (Deducted) Corporate Tax” practice (Corporate Tax Code 32/A) has been expanded recently, but still does not appeal to all businesses such as joint ventures or some investments like estates (land) and royalties. Therefore, a general cut of the rate would be much more effective in energizing the economy compared to those conditional tax credits/benefits.
Another critical point forcing Turkey into a rate reduction is the recent trend seen in developed economies. In the United States, Congress is working on a bipartisan tax-reform bill aiming to bring American companies back home. In addition, with the election of Donald Trump, who is very ambitious about making the U.S. very business-friendly and has promised to cut tax to 15 percent on the campaign trail, the reduction of the corporate tax rate to 20 percent looks almost certain. In the United Kingdom, where the rate was cut to 20 percent in 2010, the incumbent finance minister, Phillip Hammond, plans to cut it to 17 percent by 2020.
Actually this trend is not limited to both sides of the Atlantic; it might be more accurate to call it a “race”: The OECD average for corporate tax rate is 30 percent today, 50 percent in 1982 and 40 percent at the beginning of millennium. And when it comes to developing economies, the race becomes more visible: Check out this recent news from emerging markets; Hungary is introducing a 9 percent corporate tax rate in 2017, which is the lowest in the EU; Indonesia is lowering its rate from 25 to 17 percent following the end of its tax-amnesty program, which is a program similar to Turkey’s cash repatriation code, a.k.a. “Asset Peace,” which will run until March 31. So, in order to keep its competitiveness, Turkey should take action now.
For sure, the corporate tax rate is not the first concern of either foreign or domestic investors; other priorities, like the rule of law or a well-educated workforce, might be cited before tax rates. Nevertheless, no one would like to pay more than they could pay in another country with similar or better conditions and opportunities. Ireland, the mecca of foreign investment in Europe, is a great example of this phenomenon. The corporate tax rate is 12.5 percent and a dual-rate solution is in use; instead of a general low rate, 25 percent applies to passive income and to income from certain defined activities. As is admitted by almost all experts and Irish officials, low tax rates that have been applied for decades played a key role in Ireland’s success story and its latest jump in the post-2008 economic downturn.
In our case, the Irish model could be followed in terms of tax cuts. The rate might remain the same for banking institutions which traditionally offer the top corporate tax payers. And this option might also be considered for other financial firms like factoring or leasing companies, or even insurance companies. Aside from the mentioned companies whose main source of revenue is passive incomes, the general rate needs to be cut to 15 percent for other companies. In this way, the government will be able to prevent a dramatic decrease in tax revenue and also provide a valuable support to “real” sector firms which are more sensitive about tax costs.
In the final analysis, without doubt the biggest plus of this move will be a clear and strong message to all domestic and foreign investors that “Turkey is still wide open for business.”
Alper C. Demir is a tax auditor.